The growth in the Gross Domestic Product figures in the previous week suggested that the economic performance of the United States is still average and almost lackluster. The GDP growth is at 2.3 percent, failing to meet the 2.6 percent expectation.
Earlier this week, the Core PCE, which is the favorite inflation indicator of the Federal Reserve, posted a 1.3 percent inflation rate year over year. This data implied that anything more than one or two interest rate hikes was not really necessary. Despite these dismal figures, the demand for the greenback continues to increase while US yields edge lower—implying that the demand for the US currency is being stirred by the US Treasuries demand. According to some analysts, this is market participants moving into safety in the middle of the declines in Chinese markets.
China can be considered as the one of the largest investors in the world, with foreign reserves that is about the size of the economy of Germany. The majority of markets are not huge enough to accommodate the mentioned mass of reserves, except for the US Treasury market. With most of its foreign reserves invested in the US Treasury market, the Asian country is the biggest foreign holder of US Treasuries.
In my opinion, in order to ease economic pressures, China might have to devalue its currency. The devaluation of the yuan is what’s needed to ensure the stability of exports and prevent the Chinese economy from getting out of hand.
When the Asian nation decides to depreciate its currency, it will sell yuan and most likely buy dollars. Why the greenback? One, because the United States holds an enormous trade deficit with the country. Two, because the bond market of the US is the only one which is adequately large to allow China to devalue its currency effectively.
If the situation continues to worsen, there will be a higher probability that the People’s Bank of China will depreciate yuan. When the central bank starts making a move, the dollar might be pushed higher despite disappointing US figures.
No one really knows when China will start its currency devaluation by selling yuan and buying US dollars. While the economy of the United States and the next move by the Federal Reserve are the key for the US currency, speculation on the yuan may possibly spur a boost in the greenback.